After all, the stock of Bitcoins has grown from roughly $150
million to $1 billion in the space of a year, while transaction
volumes of rival digital currencies have similarly jumped.

As Euromoney has reported, the Washington-based Institute of
International Finance (IIF), a bankers’ lobby
group, under the new leadership of
ex-US Treasury official Tim Adams, is now gunning to
increase the IIF’s focus on the disruptive role of
technology in facilitating payments, citing how Google and
cellphone companies present a disintermediation challenge and
opportunity for banks. At the IIF meeting in Washington last
October, bankers expressed fears that an uneven regulatory
playing field between digital and bank-operated payment systems
has opened up.

Tempering the charm offensive launched by digital-currency
aficionados at a recent US Senate hearing, the IIF report casts
doubt on Bitcoin’s ability to function as a medium
of exchange given the volatility of the currency and the lack
of an institutional backstop.

Volatility

"A key concern for Bitcoin has been volatility. It is
estimated that 50% to upwards of 90% of Bitcoin owners are
speculators – thereby contributing to the recent
substantial price fluctuations. In December, just three days
after reaching its high of $1,240, the digital currency plunged
to $576 intraday after China – citing concerns about
money laundering and risks to financial stability –
banned its financial institutions from conducting Bitcoin
transactions. The ban prompted Baidu, China’s
largest search engine, to stop accepting Bitcoins, dealing a
big setback to the cyber currency’s struggle for
legitimacy. Bitcoin has since rebounded and as of January 6 was
trading at $1,027 on Mt.Gox, one of the more active online
exchanges. If this remarkably high volatility persists, it will
compromise Bitcoin’s capacity to function as a
medium of exchange, as it deters most large companies from
accepting the digital currency as a form of payment."

Prospect that Bitcoin is effectively a fiduciary
currency

"Bitcoin proponents claim that the digital currency is a
sound alternative to traditional physical currencies (notably
those issued by profligate governments). In line with many
libertarian thinkers, they suggest that monetary management is
healthier if it reflects the decisions of a large community of
users as opposed to a central bank board or governor.
Conversely, Bitcoin detractors argue that the functionality
(and ultimate success) of the digital currency is determined by
programmers – and their goodwill is taken for granted.
There is the possibility that over time such actors might
become driven by individual self-interest, potentially leading
to widespread panic and chaos within the network. Thus it is
far from certain that such a system would be healthier than one
where central banks are mandated to stabilize the economic and
financial markets, even if their performance is imperfect.
Furthermore, Bitcoin detractors argue that the built-in
scarcity incentivizes hoarding, decreases liquidity, fuels
price volatility and thus impedes the digital
currency’s acceptance for payment. Lastly, unlike
fiat money, nobody is obliged to accept Bitcoins for
payment.

Consequently, the currency's worth is determined by the
users’ perception of its value. Without a backstop
buyer, Bitcoin could rapidly vanish should perceptions of its
value deteriorate. A recent study conducted by the
Chicago Federal Reserve concludes that Bitcoin provides an
elegant solution to the problem of creating a digital currency,
ie, "...how to regulate its issue, defeat counterfeiting and
double-spending, and ensure that it can be conveyed safely
– without relying on a single authority. However, the
author also underscores that Bitcoin is effectively a
"fiduciary currency" with no intrinsic value – hence
inherently fragile. Thus despite Bitcoin’s
"ingenious features" it cannot provide a currency of stable
value and its use as a broadly accepted medium of exchange
appears limited – although it is a "remarkable
conceptual and technical achievement"."

Although JPMorgan’s patent for a Bitcoin-like
platform has been rejected, analysts, as Euromoney has
reported, say banks could generate fees by facilitating access
for small banks and credit agencies to a free digital payments
system; seek to create their own proprietary payment system;
acquire companies that harness the power of Bitcoin; and
eventually enter the world of Bitcoin loan and
deposit-taking.

Further reading on Euromoney

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